Decentralized finance (DeFi) has been one of the fastest-growing sectors in the blockchain and cryptocurrency space in recent years. As a result, creating a fully connected DeFi ecosystem where all financial services are seamlessly integrated is becoming increasingly appealing. But despite the growth and maturity of the DeFi industry, many obstacles remain.
Interoperability is one of the biggest challenges in building a fully connected DeFi ecosystem. Interoperability refers to the ability of different blockchain platforms to communicate and exchange data seamlessly.
Initially, different DeFi platforms operate on various blockchain networks, which makes it difficult for them to interact with each other. This results in silos of financial services and user experience, limiting the ability to access a full suite of DeFi services in one place. However cross-chain bridges have emerged as an answer to this problem, but there are still some issues with this approach.
Fully connecting a decentralized finance (DeFi) ecosystem has proven challenging, plagued by significant hacks and security issues in the crypto space. The cross-chain bridges meant to facilitate this connectivity have faced some problems over the past few years.
In February last year, the Wormhole bridge on Solana was hacked for over $326 million, and Axie Infinity’s Ronin bridge lost over $615 million in an attack in March. Additionally, the Nomad bridge ($200m), Wintermute (160m), and Harmony ($100m) bridges were hacked, with hundreds of millions of user funds lost.
Despite these difficulties, there is reason to believe a solution may be within reach. By utilizing decentralized, “trustless” bridges instead of centralized, trusted ones, developers and users can overcome the challenges that have plagued DeFi thus far and bring the dream of a fully connected ecosystem closer to reality.
What is a cross-chain bridge?
A cross-chain bridge refers to a technology that connects different blockchain networks. This allows for the transfer of assets and data between these separate networks.
The bridge functions by using smart contracts, which are computer programs that automatically execute the terms of a contract when certain conditions are met. These smart contracts are deployed on both blockchains and act as intermediaries to ensure the transfer of assets is secure and trustworthy.
Cross-chain bridges allow for greater interoperability between different blockchain networks, allowing users to access and utilize each network’s unique features and benefits. In addition, users can easily transfer assets such as cryptocurrencies, digital tokens, and other data using these bridges between networks.
Custodial bridges
Custodial or “trusted” bridges are cross-chain protocols that require users to entrust their tokens to a centralized entity during the bridging process. This means that when a user wants to transfer their tokens from one blockchain to another, they must lock their tokens into the bridge managed and controlled by a single organization.
Wrapped Bitcoin (WBTC) is an example of a custodial bridge, with BitGo acting as the custodian for the assets stored on the bridge. WBTC is a bridging protocol that enables users to use Bitcoin (BTC) on the Ethereum (ETH) network as a wrapped token.
Custodial bridges provide a simple way for users to transfer assets between blockchain networks. However, the centralized nature of trusted bridges poses a security risk, creating a single point of failure that malicious actors can target. In addition, by having control over the tokens, hackers may have an easier time compromising the protocol, potentially resulting in the loss of funds for the user.
Non-custodial bridges
Non-custodial or “trustless” bridges are cross-chain protocols that rely on decentralized smart contracts instead of a centralized entity to manage the transfer of assets. This means that users have more control over their tokens during the bridging process, as there is no central control point.
One example of a trustless bridging protocol is Pendulum, a decentralized network of smart contracts that connects the traditional financial world with the decentralized finance industry. By linking compliant currency-pegged tokens from various blockchain networks to the decentralized finance ecosystem, Pendulum increases fiat liquidity and expands the reach of decentralized finance.
While trustless bridges are considered safer than their trusted counterparts, they could be better. For example, if there are vulnerabilities in the smart contract code, the bridge can still be compromised, resulting in a loss of user funds.
Best practices in developing secure cross-chain bridges
Cross-chain bridges can be protected from hacking by implementing several safety measures to maintain the confidentiality, integrity, and authenticity of transferred assets.
One of the key measures is to ensure that the smart contract code at the center of the bridge is secure and free from vulnerabilities. This can be done by conducting regular security audits, bug bounty programs, and code reviews to identify and fix potential security risks.
Cryptographic algorithms, such as digital signatures and hash functions, can also secure the transfer of assets and information between blockchain networks. This guarantees the protection of transferred assets and hinders malicious actors from disrupting the transfer process.
Regular monitoring and the network is crucial to detect suspicious activity and prevent attacks, allowing for prompt resolution of any security issues. It is also essential for developers to follow best practices in developing and deploying secure cross-chain bridges, such as secure coding practices, testing and debugging, and secure deployment methods. The security and stability of cross-chain bridges can be maintained by combining secure code, cryptographic algorithms, robust consensus mechanisms, network monitoring, and following best practices.
In closing
While the idea of a fully connected DeFi ecosystem faces numerous challenges and perils, there is still hope. The difficulties posed by cross-chain bridges, such as significant hacks and security issues in the crypto space, can be overcome by following best security practices, thoroughly auditing smart contract code, and using fully decentralized bridging protocols.
By utilizing this approach, developers and users can benefit from a system that is secure, transparent, and free from exploitation or inaccuracies. As the crypto space continues to mature, the hope for a fully connected DeFi ecosystem remains.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
